In academic arena, ties to Wall Street world crucial to Shiller

Yale economics professor Robert Shiller is a best-selling author and currently teaches the famous course “Financial Markets.” Shiller is best known for the Case-Shiller Index, a house price index he began tabulating in 1991. This index has recently been cited as an indicator of the strength of the housing market, recently brought to light by the subprime lending crisis. Shiller spoke to the News about his research, his work in the private sector and the implications of indices on the US economy as a whole.

How do you balance your academic and corporate careers?

I think that that’s what academics should do — you should get involved. Otherwise we can get too “ivory tower,” especially in my field. I teach finance now to undergraduates; having some connection to the world of finance makes me more effective.

What was the significance of the company you helped found, Case Shiller Weiss?

The idea was to index home prices as vehicles for financial contacts. And we’re only just starting to get some traction on that. It ended up being a long haul. We did get traction in a sense, but not the way we expected. The company would sell automatic valuations of homes, and so that’s how the company succeeded.

Where did the idea for your second company, Macro Markets, come from?

What happened when Allan Weiss set up the company is that it got sidetracked by business opportunities. We wanted to create futures and options markets, in housing and all that kind of thing, but that didn’t pan out. Instead, something else did, and it was these automatic valuation models.

What are some of the short and long-term implications of the subprime crisis in the US economy right now?

This is the biggest housing crisis since the 1930s, and I think it’s fraught with risks, because we’re seeing millions of people who may lose their homes, and this could be an effect on confidence that could bring the whole economy into recession. I wrote a New York Times column several weeks ago, saying that this is a time of opportunity. Whenever there is a crisis, it tends to be a time of innovation, and I hope that we think of long-term innovations that will improve the whole state of risk management in this country. We’re in a rather embarrassing situation now in that we didn’t anticipate this crisis. Now we’re doing backstop, after-the-fact measures, so we should try to think about how we got into this mess and make some fundamental changes.

Was the government at fault here?

There wasn’t a government agency whose job it was to prevent this, and who had the authority to do something. I talked to various government agencies a couple of years ago — I talked to the Office of the Comptroller of the Currency, and I talked to the Federal Reserve Board, and I talked to the Federal Deposit Insurance Corporation. We have to tighten up on mortgages, they’re being given with inscrutable morals and it’s a problem. But I was told by each of them that they were working at it, but that it’s hard because the regulatory authority is fragmented and divided up among different government institutions. For example, we have the Office of the Controller of the Currency that regulates the national banks. National banks are among the mortgage lenders, but they’re not the only ones, so they didn’t think it was their turf to worry about it too much. Or they thought ‘maybe it is, but we can’t start regulating national banks.’ What good does that do? They started putting out inter-agency guidelines where different agencies were regulating different sections of the mortgage industry, but that didn’t work because they didn’t cover the whole mortgage lending industry anyway.

What do you think of the currency crisis and its international implications?

I have been expecting the dollar to fall because we have such a huge trade deficit, but exactly when and how much it falls is hard to predict. It’s always hard to predict — currency is an inherently speculative market, and it seems to me the historic harmony and prestige of the U.S. in the world will survive again. The Canadians are gloating! In fact, people have lost a lot of money who have invested in U.S. debt. They should just shut it off and say you win some, you lose some. There’s always exchange rate risk, but instead some of them are drawing more negative conclusions and that’s just unfortunate.

Why is the Case-Shiller Index so popular in the current economic environment?

We’ve been suddenly growing in authority, I think. We started producing this index commercially in 1991, when we founded CSW, but we had a lot of trouble getting traction and authority, because I think they thought of us as just a couple of professors doing this. But the big step forward came with the Chicago Mercantile Exchange adopted it and also when we formed a partnership with Standard and Poor’s. Standard and Poor’s offers not just credibility but a whole range of expertise about how to manage an index. I think that’s what made it take off, and I think it’s a better index than the other ones.

Anything else?

I’m teaching my undergraduate course Financial Markets next semester and I’ve been doing that course for over 20 years. I have thousands of Wall Street professionals who took my course, and sometimes when I’m speaking on Wall Street I ask the audience if I am speaking to any of my former students. Sometimes there are a few in the audience. So I like to think I have a little influence on Wall Street.